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September 19, 2012

A Bad Bargain

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A thought experiment: Imagine what would happen to the Greek economy if a European trade union managed to secure the same salaries for Greece’s public employees as for their German counterparts. If that sounds like a bad idea to you, then consider the fact that in Britain we already have this arrangement across our country's regions.

Nationwide pay bargaining imposes a limited salary range for all public sector jobs of a given type across our country, so that local pay cannot vary to reflect local conditions. Think about the North East. This is our "Greece," a region where house prices and private-sector wages are lower than elsewhere. The national bargain means that in the North East public employees will be relatively overpaid. In contrast, the South East is our "Germany." There, house prices and private-sector wages are relatively high, so the same job for the same nominal pay will be underpaid. It sounds like the effects should balance out across the country as a whole, but the available research shows that they don’t. On balance, we lose.

In the North East the public sector can easily attract employees. At the same time the private sector is blighted: on the evidence of Giulia Faggio and Henry Overman, firms that could sell to the national or international market and would otherwise have the potential to grow are squeezed because they cannot attract workers away from high-wage public employment. On average, Jack Britton, Carol Propper, and John van Reenan have shown, the residents of the North East get good schools and good health care. But the average does not apply to everyone; as Alison Wolf has argued, the gains go primarily to the pockets of affluence; schools and hospitals in particularly deprived areas within the region still struggle to recruit competent staff.

In the South East, the same research shows, hospitals and schools have struggled to recruit because public employees are relatively underpaid. They rely excessively on agency staff and teaching assistants. The education of children and the health of residents have suffered. Within the South East the losses bear more heavily on more deprived communities, because better-off families can turn to private education and health care.

Do the gains balance the losses? No. Carol Propper and her co-authors have shown that the health and educational losses in regions where public employees are relatively underpaid exceed the gains where the converse applies. It doesn’t all balance out. As a result, our country as a whole is left worse off.

Who gains? Apparently, two minorities. One minority is the public employees in the low house-price, low private-wage regions, who gain real income. Another minority is the national trade union officials who have gained status and power from national bargaining. They achieve this by siphoning influence away from their own grass roots – and money out of the Treasury.

National pay bargaining in the public sector is a mechanism that benefits a few and leaves the community worse off. It demands reform. Individual wage bargaining in the public sector would move the public and private sectors towards a level footing in each region. The overwhelming majority of our citizens would gain. Proposals for individual bargaining are sensible, and this is why I support them.

The Evidence

  • Britton, Jack, and Carol Propper. 2012. “Centralized Pay Regulation of Teachers and School Performance.” University of Bristol, Imperial College London, and the Centre for Economic Policy Research. Working Paper. Abstract: “Teacher wages are commonly subject to centralised wage bargaining resulting in flat teacher wages across heterogenous labour markets. Consequently teacher wages will be relatively worse in areas where local labour market wages are high. The implications are that teacher output will be lower in high outside wage areas. This paper investigates whether this relationship between local labour market wages and school performance exists. We exploit the centralised wage regulation of teachers in the England and use data on over 3000 schools containing around 200,000 teachers who educate around half a million children per year. We find that regulation decreases educational output. Schools add less value to their pupils in areas where the outside option for teachers is higher and this is not offset by gains in lower outside wage areas.” Available at:
  • Faggio, Giulia, and Henry G. Overman. 2012. “The Effect of Public Sector Employment on Local Labour Markets.” London School of Economics, Spatial Economics Research Centre Discussion Paper no. 111. Abstract: “This paper considers the impact of public sector employment on local labour markets. Using English data at the Local Authority level for 2003 to 2007 we find that public sector employment has no identifiable effect on total private sector employment. However, public sector employment does affect the sectoral composition of the private sector. Specifically, each additional public sector job creates 0.5 jobs in the nontradable sector (construction and services) while crowding out 0.4 jobs in the tradable sector (manufacturing). When using data for a longer time period (1999 to 2007) we find no multiplier effect for nontradables, stronger crowding out for tradables and, consistent with this, crowding out for total private sector employment.” Available at
  • Giordano, Raffaela, Domenico Depalo, Manuel Coutinho Pereira, Bruno Eugène, Evangelia Papapetrou, Javier J. Perez, Lukas Reiss, and Mojca Roter. 2011. The Public Sector Pay Gap in a Selection of Euro Area Countries. European Central bank Working Paper no. 1406. Abstract: Abstract: “We investigate the public/private wage differentials in ten euro area countries (Austria, Belgium, France, Germany, Greece, Ireland, Italy, Portugal, Slovenia and Spain). To account for differences in employment characteristics between the two sectors, we focus on micro data taken from EU-SILC. The results point to a conditional pay differential in favour of the public sector that is generally higher for women, at the low tail of the wage distribution, in the Education and the Public administration sectors rather than in the Health sector. Notable differences emerge across countries, with Greece, Ireland, Italy, Portugal and Spain exhibiting higher public sector premia than other countries. Available at
  • Propper, Carol, and John Van Reenan. 2010. “Can Pay Regulation Kill? Panel Data Evidence on the Effect of Labor Markets on Hospital Performance.” Journal of Political Economy 118:2, pp. 222-273. Abstract: “In many sectors, pay is regulated to be equal across heterogeneous geographical labor markets. When the competitive outside wage is higher than the regulated wage, there are likely to be falls in quality. We exploit panel data from the population of English hospitals in which regulated pay for nurses is essentially flat across the country. Higher outside wages significantly worsen hospital quality as measured by hospital deaths for emergency heart attacks. A 10 percent increase in the outside wage is associated with a 7 percent increase in death rates. Furthermore, the regulation increases aggregate death rates in the public health care system.” Repec handle:
  • Wolf, Alison. 2010. More than We Bargained For: The Social and Economic Costs of National Wage Bargaining. CentreForum: London. Executive summary: “Britain’s centralised wage bargaining systems are bad for the country and getting more so. They create enormous barriers to the improvement of public services, and to rational decision making at a time of fiscal crisis. They penalise our poorest regions, by distorting their labour markets and standing in the way of economic growth. They do not need to be the way they are; and they do need to be changed. […] Britain needs to rid itself of rigid centralised wage bargaining. These systems are economically harmful, undermine quality in the public services, and perpetuate disadvantage. Swedish experience shows that individual contracts are popular and successful and Britain, too, should make that change.” Available at

I am a professor in the Department of Economics at the University of Warwick. I am also a research associate of Warwick’s Centre on Competitive Advantage in the Global Economy, and of the Centre for Russian, European, and Eurasian Studies at the University of Birmingham. My research is on Russian and international economic history; I am interested in economic aspects of bureaucracy, dictatorship, defence, and warfare. My most recent book is One Day We Will Live Without Fear: Everyday Lives Under the Soviet Police State (Hoover Institution Press, 2016).

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